Verizon announced a mixed set of Q1 2014 results on April 23rd, as revenues rose 4.8% over the same period last year but subscriber numbers came in below expectations on higher competition from rivals such as AT&T and T-Mobile. The largest wireless carrier in the U.S. added a net 539,000 postpaid subscribers in the first quarter, about 20% fewer than the same period last year and trailing AT&T by 86,000. The figure included tablet net adds of 634,000, which meant that Verizon lost lucrative handset subscribers last quarter. That could be seen in the carrier’s churn rate as well, which increased to 1.07% from 1.01% a year ago. With the company having taken on additional debt to fund its acquisition of Vodafone’s stake in Verizon Wireless, it continued to focus strongly on margins by controlling subsidies and was cautious about entering into a price war with rivals. Wireless service margins increased by 170 basis points over the same period last year.

Verizon’s first quarter as the sole owner of Verizon Wireless helped boost its non-GAAP EPS figures by a strong 24% as it did not have to share profits with Vodafone. With Vodafone out of the picture, wireless becomes an even bigger contributor to Verizon’s value. By our estimates, Verizon’s wireless division accounts for over 90% of its total enterprise value. We have revised our price estimate for Verizon slightly to $50, to reflect the increase in competitive pressure in the industry and the likelihood of the carrier gradually becoming more aggressive with its service plan pricing. Our long-term growth rate of the company now stands at 1.7% – down from 2% previously.

With the wireless market increasingly getting saturated, rivals have become aggressive with their pricing strategies in order to gain market share. The biggest threat is coming from T-Mobile at the moment, which is shaking up the industry with its ‘Uncarrier’ initiatives, stealing market share from rivals in the process. AT&T’s aggressive response to T-Mobile’s threat last quarter seems to have dented Verizon’s postpaid additions, as Verizon was largely unfazed by T-Mobile’s initiatives in 2013. While AT&T added 625,000 net postpaid subscribers during Q1, Verizon managed only 539,000 – about 15% fewer.

Within this figure, if one were to look at the more lucrative handset customers, AT&T added 176,000 such subscribers while Verizon lost 95,000. With new phone subscribers hard to come by, the trend over the last few quarters has been that carriers are focusing more on tablets. While tablet additions are not necessarily bad given that subscribers adding tablets to their accounts generally have a smartphone already, tablets generate lower revenue per subscriber since tablet buyers subscribe only to a data plan. An increasing base of tablets will pressure ARPU levels in the coming quarters but, at the same time, generate more revenues per account.

Verizon focuses on the high-end subscriber

In order to hold on to its smartphone base, Verizon will gradually have to offer more competitive plans to subscribers. Recent announcements show that Verizon is slowly but surely making similar pricing moves in response to competition, although for the most part the carrier is banking on its network advantage to pull it through the pricing war. In February, the carrier made its first big move, renaming its “Share Everything” data plans as “More Everything” and increasing the data allocation for subscribers. It also made its Edge device financing and early upgrade plans more attractive by reducing the price of the accompanying service plans, making them look more similar to competitors’. However, the carrier did not offer deep discounts like AT&T or T-Mobile have, choosing instead to maintain its premium pricing, especially for subscribers on lower data tiers. It is therefore not surprising that most of Verizon’s subscriber losses came at the low end, in 3G and basic phones, which are less valuable than 4G smartphone subscribers.

Verizon has been a little more liberal with its price cuts on the higher data tiers. In a recent move, the carrier reduced the monthly charge for adding a smartphone to a 10GB service plan by $5, to $15. For a family of four, this brings down the monthly service cost from $180 to $160 – in line with AT&T’s discounts offered in February. Although we expect rivals’ pricing moves to have an impact on Verizon’s service pricing in the long run, its response so far shows that the carrier will focus most of its efforts on defending its higher-ARPU generating subscriber base on the upper data tiers.

By discounting higher data usage, Verizon is counting on subscribers adding more mobile devices to their shared data plans and shifting to the higher data tiers. Growing LTE adoption should also help drive the trend, now that Verizon is done with its initial LTE buildout and is now adding data capacity in high-traffic areas by deploying its AWS airwaves. This will help the carrier offset the impact of the pricing discounts on offer and defend its long-term data potential. Verizon’s measured approach to combating competition could lead to more subscriber pressure at the value end of the subscriber spectrum, but the carrier seems to be doing the right thing by avoiding jumping into a price war too soon.

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